SRI LANKA - If I had to pick an incident that best sums up Sri Lanka, it would be the day the monks beat up the peaceniks. It was just after midday during the hottest part of the year, and the heat hung in the streets, pungent and dizzying. Colombo's canals, polluted at the best of times, glowed iridescent emerald, and the air danced with clouds of diesel and dust.

The protesters were out in numbers, hundreds of thousands joining hands to form a human chain that snaked through the city in a gesture of peace and reconciliation. The initial stage in an ongoing campaign called Sri Lanka First, the action was aimed at encouraging the Government to re-enter talks with the Tamil Tigers.

The march went without incident until the end, when part of the Sri Lanka First crowd came face to face with a mob from Sinhala Urumaya (SU), a militant clique of hardline Buddhists. For the ultra-nationalist SU, any hint of reconciliation with the separatists was a betrayal of everything that a unified Sri Lanka stood for. Egged on by the monks, their heads shaved and brandishing black umbrellas, a group of SU goons charged the protesters, punching and kicking, shrieking abuse as they tore up their placards. In the end, it took a group of riot police to restore order. The peace advocates, however, were cowed, huddled in shopfronts and peering round corners. Nearby, a young monk stood quietly, hands clasped in prayer, his face a picture of repose.

As chairman of the Sri Lanka Tourism Board, it is Renton de Alwis' job to attract visitors to this country, much of which has been comprehensively trashed by almost two decades of war. With his high-wattage smile and laser-beam stare, Alwis is perhaps the most relentlessly positive man I have ever met, which is just as well.

"An awful incident, just awful," he says, shaking his head in an uncharacteristically pensive moment.

"I'm a born optimist," said de Alwis, offering me a salver of sweet tea and cakes. "Out of the war will come opportunity, the chance to restructure. You will see."

Sri Lanka is going to need a lot more people like Renton de Alwis.

The island has been devastated by a war between the Sinhalese Government and the Liberation Tigers of Tamil Eelam (aka the Tamil Tigers), the stop-at-nothing guerrilla army which has been battling to liberate the mainly Hindu Tamil minority from the domination of the mostly Buddhist Sinhalese. The war killed 64,000 people and displaced more than a million.

In late 2001, however, the Tigers managed to wrest a ceasefire from the newly elected Government of Ranil Wickremesinghe. The ceasefire led to peace talks, the results of which have proved better than anyone expected, with both sides making significant concessions .

The Tigers finally agreed to give up their long-held demand for a separate state, instead calling for "internal self-determination based on a federal structure within a united Sri Lanka".

The Government, for its part, has agreed to cede a substantial measure of autonomy to the Tamils, the exact nature of which is to be determined at the next round of talks, to be held in Japan starting next week.

Tensions remain. The Sri Lankan Navy sank a Tamil Tiger rebel ship suspected of smuggling weapons this week, killing 11 on board after an exchange of fire off the island's northeast coast that also wounded four sailors.

The incident was the second at sea in the past two months, but hopes for a permanent end to the fighting are still high.

Peace or no peace, Wickremesinghe has inherited a land in ruin. It is no longer possible to cross the country by train (warring parties ripped up the tracks years ago), and many of the main roads are in chronic disrepair. Large swathes of countryside are heavily mined, with locals getting injured almost daily as they move in to reclaim land.

The capital city, Colombo, is a noisy, smog-choked morass of slums, traffic jams and army roadblocks; a city of neglect and corruption where, as one local told me, "you can't even get your rubbish collected unless you bribe the garbage man".

But rebuilding roads and railways will be simple compared to repairing the nation's soul. Medecins Sans Frontieres (MSF) recently released a report which showed that thousands of Sri Lankan refugees living in Government-run camps, known as welfare centres, were suffering severe mental trauma.

Almost everyone in the camps had lost property or a house, and many faced starvation. Eighty-seven per cent of the people said that they still felt threatened. Not surprisingly, the suicide rate in the camps (where one out of every 100 people kill themselves) is three times the national average.

Many of the worst-affected people remain beyond the reach of the Government, or the NGOs.

"Many of the war veterans, from both sides, live in remote villages," says Dr Garnesha, the sole psychiatrist at the hospital in Batticaloa, a predominantly Tamil town on the island's east coast. "Often they can't access treatment, and even when they can, they are reluctant to, because there is a huge stigma attached to being seen as mentally ill."

As the only psychiatrist for 180km, Garnesha can barely cope with the non-conflict-related illnesses, let alone the torture victims, the displaced, and, of course, the child soldiers. He does not encourage war victims to come in for treatment, claiming he would be "overrun".

The problem of child soldiers is huge. The Government has always accused the Tigers of using previous truces to recruit and regroup, often forcibly conscripting children, some as young as 10. This time is no different. The Government has repeatedly called on the Tigers to "desist from recruiting child combatants", many of whom are trained as Black Tigers, or suicide bombers, one of the Tigers' most effective weapons during the war.

In an interview in Tiger-held territory, a commander called Karikalan, the guerrillas' political number three, once explained the use of such tactics.

He scoffed at the suggestion that the Tigers forced their fighters to become suicide bombers. "You cannot force people to blow themselves up," he said.

"To become Black Tigers, our cadre must apply in writing to our leader, Mr Velupillai Prabhakaran. He then goes through the applications, looking at the applicant's particular skills, the kinds of missions he or she has been involved in, their motivations and their family situation. Are they an only son or daughter? Do they have dependents? All these things are considered, after which the applicant is told whether he can become a Black Tiger."

The Tigers carried out 217 suicide attacks since 1983, in the process assassinating two heads of state: Indian Prime Minister Rajiv Ghandi, in 1991, and Sri Lankan President Ranasinghe Premadasa, in 1993. Ever inventive, they always adapted their methods to stay ahead of the security forces. When male bombers began to get caught, the Tigers trained females, whom, they reasoned, Sri Lankan police would be more reluctant to frisk.

When women became subject to suspicion, the Tigers simply concocted better methods of concealment, such as the "Bikini Bomb" - a denim pouch, packed with explosives, which folds up and between the legs.

The bombing campaign might be over now, but it has profoundly traumatised both sides of the conflict. "It caused great uncertainty, fear and terror in the Sinhalese population," says Dr Daya Somasundaram, head of psychiatry at the University of Jaffna, and himself a Tamil. "It also brutalised the Tamil community, and made them insensitive."

Because the majority of Tiger conscripts are from low-caste backgrounds (wealthier Tamils tend to emigrate, or send their children abroad), Tamil society has effectively been bankrupted.

Such issues will make rebuilding the country long and complex . Much will depend on the attitude of Sri Lanka's small but powerful elite. "Many people, both in and out of uniform, made lots of money through the war," one military analyst told me. "They have much to lose should the ceasefire hold."

Dr Somasundaram agrees. "Some people feel threatened by peace, particularly those in the military. Their whole lives have been spent in the war."

One of Prime Minister Wickremesinghe's biggest challenges will be to convince such people that they have more to gain out of peace they do from war. For this he will need the co-operation of President Chandrika Kumaratunga, his long-time political nemesis.

Kumaratunga has promised to work in a spirit of "cohabitation" but is still capable of wrecking any deal if she feels the Tigers are getting away with too much. She was nearly killed by a suicide bomber in 1999. (The attack left her blind in one eye.)

The culture of rumour and distrust still thrives in Sri Lanka. Stay any length of time and you will hear the most outlandish things: that the Tigers used prisoners as living blood banks, holding them in pens hooked up to IV units where they are milked daily like cows; that the President is a drunkard who, at the drop of a hat, absconds on Government helicopters to private islands with her toy boy and crate loads of Scotch.

"If there was a competition to see who could throw the biggest rock at the President," said one guest at a dinner party in Colombo, "I would be the first in line."

Public opinion polls suggest that upwards of 80 per cent of people support the peace process, but building a sense of inclusion and shared destiny is another matter. As my Tamil translator explained, "I don't want to kill Sinhalese. I don't have the stomach for violence. But neither do I feel a part of their country. When the national anthem is played here, I feel nothing. It is meaningless to me."

For some, however, the truce has already proved its worth. "Going by the average death toll of the past couple of years, many thousands of lives have been saved due to the current ceasefire," says political analyst Jehan Perera. "This of itself is an achievement."

In the meantime, people are making the most of the relative calm. On Galle Face Green, a boulevard fronting the Indian Ocean, couples wander arm in arm, boys play cricket, vendors sell drinks and snacks. An evening storm is brewing, and the air is thick with the promise of rain. Yet no one looks ready to leave. They are too busy enjoying the night.